Data Brief - Today

Rydex Assets Suggest Tech May Pause

Thursday, May 15, 2008

Over the past few weeks, technology stocks have taken a clear leadership role. That's a positive thing, as stocks in general tend to do better when high-beta sectors like technology are doing better than more-defensive sectors.

It's a good thing until it gets to be too much, too fast, and we've seen a couple of those indications lately. The ratio of Nasdaq volume to NYSE volume exploded to an extremely high level last week, a pretty reliable sign in the past that things have become too heated.

Another one we can point to would be the behavior of traders in the Rydex family of mutual funds. The chart below shows the ratio between assets in the Rydex leveraged long fund versus assets in the leveraged short fund.

The higher the ratio, the more traders are betting on a market rally. The red arrows on the chart show times when the ratio reached a very high level, 1.85 or higher.

While the ratio took a big dip yesterday as traders piled into the short fund after the reversal yesterday afternoon, we can see from the chart that the ratio is descending from a point where the ratio had hit 2.0 (i.e. up until yesterday, there were about twice as many assets parked in the long fund than the short fund).

The forward performance in the NDX didn't look so hot after previous spikes in the ratio, and it wasn't.

Nasdaq 100 Performance When Long/Short Ratio Hits 1.85
	One Month	Three Months
Average Return	-6.1%	-12.7%
% Positive	13%	6%
Max Risk	-9.2%	-16.2%
Max Reward	+2.0%	+2.2%

The one-month forward return in the index averaged -6.1%, with only 11 days out of 83 showing a positive return. The maximum risk averaged four times greater than the maximum reward during the following month.

If we look at three-month returns, it gets even worse. The average return was -12.7% with only 6% being positive, and a risk nearly eight times greater than reward.

That ain't good, and it's a caution sign for our current juncture.